Buying a home is a major financial decision that every person takes in her life. A home is treated as a major investment. For many middle-class families in India and other developing countries, owning a home is a matter of prestige. Easy access to credit made many people around the world to buy a home by taking a loan. Housing loans increased home ownership in the developed world and will do the same in emerging countries like India.

One of the key reasons for taking a housing loan is the income tax deductions available on their repayment. Section 24 of the Indian Income Tax Act offers a deduction of Rs. 2 Lakh (Rs. 200,000) on the interest component of the home loan repayment. The principal part of home loan repayment too enjoys a tax deduction of Rs. 1.5 Lakh (Rs. 150,000).

It is true that tax deductions on home loan repayments reduce the tax burden of a person. However, many persons buy multiple homes only to enjoy tax deductions. For example, even people who have one home buy a second one by taking a housing loan to enjoy tax deduction. Most of the second homes bought using a home loan are perceived as long-term investments which will also yield a regular income in the form of rent.

Is Buying a Home Only to Avail Tax Deductions a Wise Strategy?

Income Tax deductions available on home mortgage repayment is a major incentive for people even in developed countries like USA for buying a home. In order to understand whether it is a wise move to buy a home for availing tax deductions, it is important to understand as to why governments provide tax deductions for home loan repayments. A home gives security to a person all his life. Owning a home will save a person from paying house rents during her old age when she does not have a regular income. A high home ownership rate will also reduce the social security expenditure of the government.

Since many middle to low income people cannot afford to pay the interest on the home loans, providing a tax exemption on the loan repayments will ease their financial burden.

buying a home for tax deductions

Even as home loan repayments are eligible tax exemptions, the borrower will end up paying a lot of interest on the loan. For example a home loan of Rs. 50 Lakh (Rs. 5 million) will carry an average interest of Rs. 3 Lakh (Rs. 300,000) per year. It is not a wise strategy to pay an interest of Rs. 3 Lakh to avail tax exemption of Rs. 2 Lakh. The tax burden for a person who does not avail tax deduction under Section 24 will be Rs. 60,000 even if he falls in the top tax bracket of 30 percent. Simply put, it’s better to pay Rs. 60,000 tax to the government rather than Rs. 3 Lakh interest to the bank every year.

Moreover, tax payers can get tax deductions through other provisions in the Income Tax Act. For example, money invested in Equity Linked Savings Schemes (ELSS) and the National Pension System (NPS) is also eligible for tax deduction under Section 80C.

The best way to invest money is not buying a second home but to invest the money in other asset classes like equities which give a better rate of returns for your investments. Buying a second home in a country like India where the rental yields are lower than other countries is a investment decision.